Natural monopoly • Declining cost industries and network industries are sometimes called “natural monopolies.” The idea is that it is more efficient for a single firm to serve the entire market. • Examples: telephone line-based systems; cable TV; electricity distribution.

Options: Traditional Rate-of-Return Regulation • The regulator needs to know the AC curve and demand curve. • Rate of return regulation • Step 1: determine K = the rate base = capital investments on which a “normal return” is expected in order to give an incentive for investments in the activity. This provides for opportunity cost recovery for investors. • Step 2: determine other costs of production

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